· Abbreviations:
o My Estimate of Fair Value (MFV)
o Return on Invested Capital (ROIC)
o Liquidation Value = Tangible Book Value (TBV)
o Book Value (BV)
o Operating Income (OI)
o Enterprise Value (EV)
o Price-to-earnings ratio (P/E)
Prophase Labs (NASD:PRPH ) is engaged in over the counter (OTC) consumer healthcare products and dietary supplements. To me, that’s not particularly relevant. What’s of greatest relevance is the differential between its market value and MFV. But, before we get to those calculations, I measure the stock via a scorecard to highlight indicators that might make the stock more or less likely to be a winner. Correspondingly, pros and cons as I see them.
Pros:
· The share price is <$15 and…
· Market Cap is <$250mm
o I may have a counterparty advantage from these first two, e.g. institutional investors may have rules preventing the purchase of lower priced, smaller Market Cap stocks. If so, I’m competing against fewer buyers to purchase shares, but may have more buyers to sell shares to if the share price and/or Market Cap increase.
·The P/E is <10
o I love cheap stocks, and for others that do too, this is most likely the measure of relative value they are using
·The company is also cheap using OI/EV, my preferred relative measure
·The % of shares short is <5%
o Shorts take greater risk than (non-margined) longs, so I assume they’ve done some research before betting against a company
·The company’s debt relative to its Market Cap is minimal
· Insiders own a significant % of the company
· Shares trade above the 200-day simple moving average
o This shouldn’t matter, but enough people think it does that I give it a little weight…
·The company’s balance sheet seems excellent, and BV has grown nicely over 5 years
Cons:
·Diluted share count is up >25% over 5 years
Pros outweigh cons, but the one con is a big one. Dilution to that extreme is generally enough for me to lose interest in a company. In this case, given the number of pros, I went ahead and calculated MFV.
The company’s average ROIC (~5% over the last 10-years) makes it seem unlikely that the company has durable competitive advantages. So, I deem the company not good quantitatively and value it relative to its liquidation value, TBV of $2.63. Given the company’s seemingly good balance sheet and 5-yr average multiple of BV x 2.8**, I think TBV x 1.5 is a reasonable fair value, which equates to MFV of $3.95.
At a recent price of $10.17, the differential between market value and MFV is 157%, meaning the share price would have to fall dramatically for me to have buying interest.
Conclusion: I put the company on my not good watchlist, i.e. I’m not confident that company can grow earnings in a sustainable way, so I would only look to profit from mean reversion via buying shares for <MFV. For example, if I was targeting a 100% gain, I would buy shares at MFV/2, or $3.95/2.
My positioning: No position
For more information about how and why I designate companies not good read here: (https://www.veriteventures.com/post/how-i-value-most-assets-companies)
-V
*Post prepared using data as of 12/5
**I’m using the company’s historical Book Value multiple as a proxy for Tangible Book because TB is <=BV and BV multiples are more readily available from data providers.
The information in this post has not been audited and accuracy is not guaranteed. The post is for informational purposes only and is not investment advice. Consult a financial professional before making investment decisions. The author’s opinions and positions may change subsequently, without notice.
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